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Edited Transcript of ELMD earnings conference call or presentation 26-Sep-18 1:00pm GMT

Q4 2018 Electromed Inc Earnings Call

Sep 27, 2018 (Thomson StreetEvents) -- Edited Transcript of Electromed Inc earnings conference call or presentation Wednesday, September 26, 2018 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Jeremy T. Brock

Electromed, Inc. - CFO, Principal Accounting Officer & Financial Controller

* Kalle J. Ahl

The Equity Group, Inc. - Senior Associate

* Kathleen S. Skarvan

Electromed, Inc. - CEO, President and Director

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Conference Call Participants

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* Andrew J. Summers

Summers Value Partners - Founder

* Paul Carter

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Presentation

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Operator [1]

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Greetings, and welcome to the Electromed, Inc. Fourth Quarter Fiscal 2018 Financial Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to your host, Mr. Kalle Ahl of The Equity Group. Thank you. You may begin.

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Kalle J. Ahl, The Equity Group, Inc. - Senior Associate [2]

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Thank you, Melissa, and good morning, everyone. Electromed's fourth quarter fiscal 2018 financial results were released yesterday after the market closed. A copy of the earnings release can be found in the Investor Relations section of the company's website at www.smartvest.com.

As a matter of formality, I need to remind participants that remarks made by management during the course of this call may contain forward-looking statements about the company's results and plans. Such statements are subject to risks and uncertainties that could cause actual performance or achievements to be materially different from those projected. The words believe, expect, plan, intend, estimate, anticipate, should or could and similar expressions are words that are used to identify forward-looking statements, but their absence does not mean a statement is not forward-looking.

In addition, any projections as to the company's future performance represent management's estimates as of today, September 26, 2018. You should not place undue reliance on these forward-looking statements. We expressly do not undertake any duty to update forward-looking statements whether as a result of new information, future events or otherwise. We ask that you please refer to the company's SEC filings for further guidance on this matter.

Joining us from Electromed this morning are Ms. Kathleen Skarvan, President and Chief Executive Officer; and Mr. Jeremy Brock, Chief Financial Officer. Kathleen will begin with some opening remarks, after which Jeremy will present a summary of the company's fourth quarter fiscal 2018 financial results. And then we'll open the call up for questions.

Now it's my pleasure to turn the call over to Kathleen.

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [3]

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Thank you, Kalle. Good morning, everyone, and thank you for joining us to discuss Electromed's fourth quarter fiscal 2018 financial results. This quarter, we delivered strong home care sales growth of 15% despite a difficult comparison against the prior year period, which included a favorable CMS settlement agreement totaling $703,000.

Targeted improvements in our reimbursement skills, processes and capacity, combined with a larger field sales force, which expanded to 50 at the end of the year from 40 at the start of fiscal 2018, drove higher approvals and referrals this quarter. We were particularly pleased with our approvals in the fourth quarter, which increased significantly due to higher referral to approval conversion rate and faster speed to process referrals. The higher level of investment we made earlier this fiscal year in our sales and reimbursement organizations clearly is beginning to pay off and puts us in a good position to achieve double-digit revenue growth long-term.

Higher spending on growth initiatives across sales, marketing and reimbursement functions drove higher SG&A expense throughout the year, yet we remained profitable and generated significant operating cash flow. With the investments initiated in fiscal 2018, Electromed has emerged a larger, stronger organization, and we plan to deliver profitable revenue growth in fiscal 2019.

In the fourth quarter, Electromed's net income grew 18% and our cash flow provided by operating activities expanded 48%. I'd like to point out that we achieved an uptick in sales productivity in the fourth quarter due to the decisive action we took when productivity dipped in the third quarter. We have opportunity for additional meaningful sales productivity improvement in fiscal 2019.

And to achieve that improvement, we will continue to focus on leadership co-travel with new sales employees in the field, higher frequency of visits to strategic clinics and continuing to leverage our upgraded sales training programs. Additionally, we have strengthened our sales account planning tools and improved our customer relationship management utilization.

Finally, we are seeing a rebound in our institutional sales. Fourth quarter institutional sales grew 26% year-over-year, reflecting the impact of new sales leadership, our renewed focus on key hospital relationships and greater emphasis on targeted and customized business proposals to meet the needs of that customer group.

To reiterate, the market we are addressing is large, underpenetrated and growing. Conservatively, we estimate that 400,000 Medicare-only individuals have the diagnosis of non-cystic fibrosis bronchiectasis, and we believe that the total prevalence of bronchiectasis in the United States exceeds 4.2 million. Of those diagnosed, we estimate that only 15% have been prescribed high-frequency chest-wall oscillation therapy with devices like SmartVest.

Our strategy penetrate this significant market in our largest fastest-growing patient population, adult pulmonology and bronchiectasis. This remains unchanged for the coming fiscal year as we strive for an increase in high-quality referrals, along with a faster conversion of these referrals to approved reimbursed referrals.

Looking ahead, we are focused on increasing sales productivity through deeper clinic penetration, which is all about market expansion, along with gaining market share. We will expand and promulgate the body of clinical evidence to increase utilization of SmartVest Airway Clearance therapy in patients with bronchiectasis.

Our evidence-based marketing approach provides sales employees with important tools to inform pulmonologists, patients and other key decision-makers of the benefits of HFCWO therapy using SmartVest. In this regard, in July, during the third Annual World Bronchiectasis Conference in Washington, D.C., we announced the first independent study of its kind. The study suggests that HFCWO therapy with SmartVest significantly reduces severe exacerbations and hospitalizations and may meaningfully slow the otherwise normal progression of non-cystic fibrosis bronchiectasis.

Compelling outcomes, such as stabilization of lung function, highlight the potential of SmartVest to improve quality of life for our patients. We will continue to enhance our leadership in reimbursement support and customer care, which we believe will provide differentiation to the market. We will grow institutional market share to support home care growth.

We know that undiagnosed bronchiectasis patients may be hospitalized with more serious exacerbations and then may be identified as benefiting from airway clearance upon discharge since often, the brand used in the hospital setting is the default brand. When discharging a patient with HFCWO, hospitals continue to be a focus for home care growth.

And our ongoing investments will include IT in support of the scaling and efficiency of our business and increasing our R&D spending from fiscal 2018 as we work on enhancements to our SmartVest Connect wireless patient monitoring feature and with our engineering resources focused on next-generation product enhancements and other market opportunities.

As we execute our organic growth strategy, we aim to advance our mission of improving quality of life and outcomes for a greater number of patients with compromised pulmonary function while reducing health care utilization, achieve profitable growth, create value for our shareholders and maintain the highest standards of integrity, respect and privacy.

I will now turn it over to Jeremy for a detailed discussion on our financial results. Jeremy?

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Jeremy T. Brock, Electromed, Inc. - CFO, Principal Accounting Officer & Financial Controller [4]

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Thank you, Kathleen, and good morning, everyone.

Our net revenue in the fourth quarter of fiscal 2018 increased 13.3% to $8.2 million from $7.3 million in Q4 of fiscal 2017, driven by strong growth in home care sales. Home care sales increased 14.8% to $7.7 million, primarily due to the increase in approvals and referrals driven by improved reimbursement processes and a higher number of field sales employees.

As a reminder, in the fourth quarter of the prior year, we recognized $700,000 of net revenue from a settlement with the centers for Medicare and Medicaid services with respect to approximately 700 Medicaid fee-for-service claims submitted between calendar years 2012 and 2015.

Institutional revenue increased 25.9% to $466,000 from $370,000 in the prior year quarter. And international revenue, which is not a strategic growth area for Electromed, totaled approximately $140,000 -- $114,000 compared to $229,000 in the prior year period. Although quarter-to-quarter sales variability can be expected due to the nature of our business, we anticipate double-digit revenue growth in fiscal 2019 as we execute our organic growth strategy.

Gross profit increased 12.2% to $6.7 million or 81.7% of net revenue in Q4 of fiscal 2018 compared to $6 million and 82.5% of net revenue in the fourth quarter of fiscal 2017. The increase in gross profit resulted primarily from an increase in home care revenue.

While this quarter, we exceeded the 80% gross margin threshold, we believe gross margins will return to the mid-to-upper 70s, which is more in line with our previously communicated expectations.

Operating expenses, which include SG&A as well as R&D expenses, totaled $5.1 million or 62.4% of revenue in the fourth quarter of fiscal 2018 compared to $4.5 million or 61.7% of revenue in the same period of the prior year.

SG&A expenses increased 14.4% to $5.1 million in Q4 of fiscal 2018 from $4.4 million in Q4 of fiscal 2017, primarily due to higher payroll compensated related -- compensation-related expenses, increased travel, meals and entertainment expenses. These increased costs were partially offset by a $406,000 refund of medical device excise tax that was recognized during the fourth quarter of fiscal 2018.

R&D expenses for the quarter totaled $81,000 compared to $65,000 in the prior year fourth quarter. Operating income in the fourth quarter of fiscal 2018 increased 5.1% to $1.6 million from $1.5 million in Q4 of fiscal 2017, primarily due to increased gross profit driven by higher revenue, which was partially offset by higher payroll and compensation-related expenses in sales and administrative positions.

Net income before income tax expense rose 7.6% to $1.6 million from -- in Q4 of fiscal 2018 from $1.5 million in the prior year quarter. And in Q4 of fiscal 2018, income tax expense totaled $500,000 compared to $559,000 in the same period of the prior year, with an effective tax rate in Q4 of 2018 of 30.9% compared to 37.1% in the prior year period.

Our net income increased 18.2% to $1.1 million or $0.13 per diluted share in the fourth quarter of fiscal 2018, and that was up from $946,000 or $0.11 per diluted share in the Q4 of fiscal 2017.

Now a brief recap of our fiscal 2018 financial performance. In fiscal 2018, our revenue increased 11% to $28.7 million, up from $25.9 million in fiscal 2017. Gross margins were 79.6% compared to 79.5% in the prior year, while net income was $1.9 million or $0.22 per diluted share compared to $2.2 million or $0.26 per diluted share in the prior fiscal year.

Moving on to the balance sheet and operating cash flow. Our balance sheet at June 30, 2018, included cash and cash -- included cash of $7.5 million, long-term debt, including current maturities of $1.1 million, working capital of $17.5 million and stockholders' equity of $21.9 million. Cash flow for the quarter -- for the fourth quarter of fiscal 2018 totaled $570,000 compared to $385,000 in Q4 of fiscal 2017.

Overall, we remain pleased with the direction our business is heading, and this concludes my remarks. Operator, we can start the Q&A portion of the call, please.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from the line of Paul Carter with Adaptable Capital Management.

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Paul Carter, [2]

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Very nice results there. So just curious, you highlighted your sales productivity improvement in the quarter. Excluding international, your sales per average field sales employee increased, I think, about 8% to about $166,000 in the quarter. Does your sales organization tend to be more active during your fourth fiscal quarter relative to your third? Or is there any reason to think that, that kind of rate of growth from Q3 to Q4 shouldn't continue into Q1?

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [3]

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Paul, it's great to hear from you, and we appreciate that question. We do see occasionally seasonality throughout the year. We will reference that often as during the height of influenza season, you may see more patients visiting their physician due to an increase in exacerbations just because of the way we see that in the United States. So I think that there could be some of that. I think we have experienced some pick up from 3 to 4 in prior years. And so I think that's a consideration. And we would have seen also, I think, last year, when we moved from 4 to 1, some change in that. So I think it's a fair question, and we would be monitoring that and working through that as well.

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Paul Carter, [4]

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Okay. And then during the quarter, your recruiting fees of $217,000 were almost double that, what they were in the third quarter. Does that suggest that your -- and then your field sales employee count only increased a couple during the quarter. Does that suggest that a lot of the 48 salespeople that you started the fourth quarter with have sort of -- you've replaced them during the quarter? Or is the sort of average tenure of your sales force continue to increase?

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [5]

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Thank you again for that question relative to the sales force and the recruiting fees and where we are with the new salespeople. We did address some turnover and replaced a few salespeople in the fourth quarter, some of that voluntary, some of it involuntary, as we continue to strive to have the very best salespeople in these regions, in these roles, so that our productivity and learning curve can be achieved in the time frames that we expect. And so we would say that our sales force now, if you think about how many of those are under a year, we would put them in that -- around approximately 25% of that sales force would be less than a year.

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Operator [6]

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(Operator Instructions) Our next question comes from the line of Andy Summers with Summers Value Partners.

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Andrew J. Summers, Summers Value Partners - Founder [7]

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So maybe I'll just start with, you talked about the improvement in your referral to approval conversion rate in the quarter. Given that the fiscal first quarter is almost over, can you comment on whether you saw that momentum continue into the fiscal first quarter?

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [8]

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Well, thanks for the question, Andy. And we are not going to be commenting on the first quarter at this time.

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Andrew J. Summers, Summers Value Partners - Founder [9]

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Okay. And you talked about generating double-digit top line growth for several years going forward. That could be 10%. That could be a lot higher. And historically, you've talked about this bogey of like 18%. Can you maybe give a little bit more context around the sort of top line growth opportunity the company has over the next few years?

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [10]

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I'd be glad to do that. We -- in the 10-K, we are also referring to this growth. And I would put this in the context that this market is developing. And we still are working on education and awareness with pulmonologists, not only about SmartVest and its differentiation with our competition, but also around the idea that they have far more bronchiectasis patients than they are diagnosing and identifying. And so for that reason, we find that this can be a longer-term growth opportunity, and that it is somewhat challenging at times to be able to predictably nail down that absolute growth percentage quarter-over-quarter, year-over-year because it is a little lumpy. So we're going to stick with that double-digit growth but growing faster than market as the way we will describe that at this point. As we learn more about how to project and how that penetration is going, I think we'll get to a position where we can be a little more predictable and precise on that.

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Andrew J. Summers, Summers Value Partners - Founder [11]

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Okay. Well, maybe I'll take it to a little bit of a higher level. So what is your current impression of how fast the market is growing? And do you view yourself as a share gainer or a share loser?

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [12]

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Over the last few years, we have definitely felt that we've been a share gainer. And I think occasionally, when there's a competitor with a new product innovation, they can have spikes and some changes there. But overall, we believe we've been a steady market share gainer. Now again, I want to preface that -- qualify that with the fact that the pie is growing. And so to understand the puts and takes of market share can be a little difficult. But overall, when we think about the served market, we think we're continuing to make gains there.

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Andrew J. Summers, Summers Value Partners - Founder [13]

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Okay. All right, great. And then just based on how I'm thinking about the outlook for the financials, I have you as continuing to generate cash in my model and having almost 20% of the market cap in cash and no debt by the end of fiscal '19. As cash builds on the balance sheet and becomes more prominent as a percentage of your market cap, how are you -- have you guys thought any more about your capital allocation strategy or policy? Is there a potential for you to start buying back stock? Or are there acquisitions that you're thinking about making? Or is there any other context you can provide around your uses of cash going forward?

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [14]

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So thanks again for that question, Paul (sic) [Andy], and I think it's a great question. And I think this year, you'll see that we're going to spend quite a bit more time thinking through and evaluating and assessing what is the best utilization of that capital. And one of the things we mentioned in our K is about assessing what could be the potential for engaging with certain home care medical equipment distributors. I also talked about in the script here, just recently, with R&D, evaluating other opportunities that could help support our acceleration of our growth. So I think you'll hear more about that as we move through the year.

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Andrew J. Summers, Summers Value Partners - Founder [15]

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Okay, great. And last question, more of a housekeeping question for Jeremy. You talked about the fiscal '19 tax rate being 21%, I think, on the next quarter call. Is that still the right way to be think about the tax rate in 2019?

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Jeremy T. Brock, Electromed, Inc. - CFO, Principal Accounting Officer & Financial Controller [16]

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Andy, yes. From a federal standpoint, our tax rate will be 51%, give or take the permitted items, but I would look at it at a combined rate with state taxes well closer to the 30%.

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [17]

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20%.

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Operator [18]

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Our next question comes from the line of [Mike Dessler] from [Mx Holdings].

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Unidentified Analyst, [19]

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Between Andy and Paul, you've pretty much covered everything, and I couldn't get out of the queue fast enough. So I just want to say congratulations on a great quarter. Clearly, it was not a throw-away quarter. You did a great job. Pretty much, I was just going to give you some softball questions, but between Paul and Andy, you've covered everything on my list and continued success. I hope the institutional sales continues to gain traction as a doorway through the home care sales, which you alluded to again in today's conference call as you had last quarter. So thank you, and I look forward to the next quarter's call.

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [20]

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Well, thank you, Mike, for those comments, and we're really excited about that institutional opportunity as well. And to see that, that we've been able to move that needle, it's really exciting. Thank you.

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Operator [21]

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Ms. Skarvan, there are no further questions at this time. I'd like to turn the floor back to you for any final comments.

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Kathleen S. Skarvan, Electromed, Inc. - CEO, President and Director [22]

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Well, thank you all for participating on our call this morning. We look forward to reporting back to you in November when we'll release our first quarter fiscal 2019 financial results. Have a good day.

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Operator [23]

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Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.